"As to Bonaparte, he was well assured that nothing remained for him but to choose between that hazardous enterprise and his certain ruin."
-Memoirs of Napoleon Bonaparte, by Bourrienne

Monday, April 13, 2009

China's bubble economy

While many people trumpet the strength of the growing Chinese economy, there are other signs that it is on the verge of collapse. Note the following Financial Times article .

Property prices in China are likely to halve over the next two years, a top government researcher has predicted in a powerful signal that the country’s economic downturn faces further challenges despite recent positive data.

The property market, along with exports, were leading drivers of the booming Chinese economy over the past decade and the slumps in both have taken a heavy toll.

Cao Jianhai, professor at the Chinese Academy of Social Sciences, a leading government think tank, said an apparent rebound in the property market was unsustainable over the medium term and being driven by a flood of liquidity and fraudulent activity rather than real demand.

He told the Financial Times he expected average urban residential property prices to fall by 40 to 50 per cent over the next two years from their levels at the end of 2008.

"being driven by a flood of liquidity and fraudulent activity". Hmm, why does that sound familiar? Ah, that's right. It sounds like our housing market in 2006.

Real estate agents in the residential property bellwether of Shanghai said the market seemed to have bottomed out as a result of government stimulus measures, falling prices and pent-up demand from owner-occupiers.

But Mr Cao said preliminary government investigations had turned up numerous examples of real estate developers using fake mortgages to offload apartments on to the books of state-run banks facing enormous pressure from Beijing to rapidly increase lending to boost the economy.

Does that sound like the basis of a sound economy? A sound housing market is one in which houses are affordable for the majority of the population. So how is that working out in China?

At a national level, average housing prices tripled between 2003 and the peak in mid-2008 and are now 10 to 12 times average income, which means 60 per cent of homebuyers’ monthly income must go to mortgage repayments, Mr Cao said.

Ok, I am pretty sure we all know how that story ends. Good luck China in your quest to prop up the world economy.

China faces a surge of bad loans and speculative bubbles as the country’s banks open lending and flood the market with record levels of money supply, economists are warning

... The peril appears to lie in the speed and geographical spread of lending: the mostly state-owned banks, scattered throughout both economically weak and strong parts of the country, are duty-bound to follow Beijing’s orders to lend. Few analysts believe that the banks have the mechanisms or expertise to assess the quality of the borrowers.

In short, China has a command economy. It doesn't have a real banking system. The "banks" in China are just state owned entities who don't know how to say no to loans. Even if China keeps growing due to this forced lending, it will eventually end badly. It is classic boom bust ponzi lending. Since capital is being allocated by fiat rather than based on economic soundness, it will result in inefficiency and waste and ultimately economic stagnation. Another result will be excess supply which will export deflation to the rest of the world which the boom finally goes bust.